Perspectives on Balance of Payments and Exchange Rates

Perspectives on Balance of Payments and Exchange Rates

Gold Standard as compared to the floating exchange rate

Gold was the foundation of the monetary system even after the abandonment of the Gold Standard when it was primarily the domain of government dealings. That's why they banned U.S. citizens from owning gold right up to 1974. It's clear that the difficulty lay in gold failing to reflect the power, control and wealth of the U.S. then and showing a weakening U.S. on the monetary front (Klein, 2010).

The US should move towards the Gold Standard as compared to the floating exchange rate. The concept of protecting value was slowly abandoned, and now we see nations moving their exchange rates so that their economies can retain global trade competitiveness. The leaders in this are currently the Japanese Yen and the Swiss Franc, two of the currencies that investors believed would hold their value. We are now at the stage where governments argue with each other over exchange rates. The U.S. against China and China against the U.S. are the leaders in this battle. Neither is attentive to their currencies being a measure of value, but solely as a means of exchange that should work in their favor (Isard, 2005).

Protection from exchange rate risk

The actual cost and return on an overseas property will be determined and swayed by fluctuations in the exchange rate, so it's important to think about when to buy and how to make payments overseas. Rather than leaving it to chance or going with the given exchange rate, there are ways to reduce currency risks and ensure that money goes further.

There are a number of foreign exchange risk management tools that shelter from the risks of an unpredictable Forex market, whether you are making regular payments on a mortgage or just transferring funds into a foreign account to pay local bills and property fees (Fatemi, 2004).

Forward Contract: One can enter into a Forward Exchange Contract (FEC) that allows you to lock in an exchange rate (before it falls) and pay the funds at a future date. This allows you to protect yourself from fluctuating exchange rates and know the exact cost of your transaction.

Limit Orders: It's hard to constantly monitor the exchange market to jump on the best rates. Limit Orders allow you to give that responsibility to an experienced dealer. When you place a Limit Order, you specify a target rate that you want to transact at. If that target rate is triggered, the dealer can transact on your behalf. This can help you get the best possible exchange rate when you need to make that overseas mortgage payment. By using these risk management tools, people can give themselves some protection when exchange rates are in flux (Dreyer, 2008).

Purchasing Power Parity

The theory of "purchasing power parity" states that exchange rates between currencies should be such as to allow a coin has the same purchasing power anywhere in the world. If $ 1,000 can buy a TV ...